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CARES Act – PPP Loan Forgiveness

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COVID-19: Loan Forgiveness under the Paycheck Protection Program

By: Stephen Zaharias, William Reddington, Pierre Chabot, and Kathleen Peahl

May 7, 2020

The CARES Act established the Paycheck Protection Program (“PPP”) to provide short term, low interest rate loans to small businesses and organizations suffering from economic hardship due to the COVID-19 epidemic. Because initial funding for the PPP quickly ran out as businesses across the country promptly applied for such loans, the federal government recently supplemented the PPP with an additional $310 billion. The popularity of the PPP has been driven, in part, by the possibility that all or part of a PPP loan may be forgiven, thereby effectively turning any such loan into a grant.

However, to take advantage of this benefit and to maximize loan forgiveness eligibility, PPP loan recipients must navigate the complexities of the CARES Act and various agency rules and regulations. The CARES Act required the Small Business Association (“SBA”) to issue guidance and regulations to implement the forgiveness provisions within thirty days. To date, the SBA has issued Interim Final Rules and frequently updated FAQs. Yet, this guidance does not answer many important questions regarding eligibility for forgiveness. Thus, it is anticipated that further guidance will be forthcoming. In the meantime, businesses that received PPP funds must make decisions about how they are using these funds in order to maximize forgiveness.   

This publication is intended to be an overview of the key criteria of PPP loan forgiveness; it does not include all the details found in the text of the CARES Act or in the regulatory guidance that has been released. Nor does it account for any additional future regulatory guidance that will surely be released in the coming weeks. Each situation is unique, and, therefore, if you have specific questions you should consult with counsel. Of course, the attorneys at Wadleigh, Starr & Peters are available to help.

Eligible Uses

First, because PPP loans can only be used for certain purposes, any improper use of PPP loan proceeds will likely eliminate any potential forgiveness of a PPP loan and could even subject the borrower to fraud-based charges.[1] Thus, it is vital to understand the permissible uses of PPP funds.

PPP funds must be used to cover: payroll costs, as defined in the CARES Act, which includes the cost of group health care benefits; mortgage interest payments (but not mortgage prepayments or principal payments); rent payments; utility payments; interest payments on any other debt obligations that were incurred before February 15, 2020; and refinancing an SBA EIDL loan made between January 31, 2020 and April 3, 2020.[2]

The actual amount of loan forgiveness will depend, in part, on the total amount of payroll costs, payments of interest on mortgage obligations incurred before February 15, 2020, rent payments on leases dated before February 15, 2020, and utility payments under service agreements dated before February 15, 2020, over the 8-week covered period following the disbursement of the PPP loan.[3] It is important to note that the eligible uses for loan forgiveness do not include all the eligible uses for the PPP loan. For instance, eligible uses of PPP loan proceeds include refinancing an EIDL loan and payment towards interest on non-mortgage debt obligations; however, these uses are not eligible for loan forgiveness.[4] Loan forgiveness is limited to payroll costs, rent, utilities, and payments of interest on mortgage obligations. Therefore, it is crucial to understand how PPP loan proceeds may be used, and which uses are eligible for loan forgiveness.

As noted above, the 8-week covered period begins to run the day that the lender disburses the PPP loan to the borrower.[5] Importantly, the lender must disburse the entire PPP loan in a single installment and the borrower cannot take multiple draws in order to delay the start of the 8-week period.[6] Additionally, once the loan application has been approved, the lender has 10 calendar days to disburse the funds to the borrower.[7]

Importantly, although not explicitly stated in the CARES Act, an interim final rule promulgated by Treasury has established a threshold requirement that, to qualify for forgiveness, at least 75% of the PPP loan proceeds must be used towards eligible payroll costs.[8] Thus, not more than 25% of the loan amount can be used towards non-payroll costs (such as towards mortgage interest payments, rent, and utilities). Failure to meet this 75% threshold appears likely to result in the elimination of forgiveness. However, note that there is some debate about whether a failure to meet this 75% threshold will only result in a pro rata reduction in forgiveness, rather than an elimination of forgiveness; unless additional guidance is provided, however, it is best practice to assume that the 75% mark is a required threshold to meet in order to obtain forgiveness and that failure to meet this threshold will result in the elimination of forgiveness. 

Lastly, the CARES Act provides that “costs incurred and payments made” during the 8-week period are eligible for forgiveness.[9] However, this verbiage has left many puzzled. The CARES Act and subsequent Treasury guidance do not define what is meant by “costs incurred and payments made.” The language suggests both cash and accrual basis accounting; therefore, until further guidance on this topic is issued by Treasury, it would be wise to carefully document both the accrual and payment of all obligations that qualify for loan forgiveness.

Additional Limitations

In addition to the limitation on uses of PPP loan proceeds and the 75% payroll cost requirement noted above, the amount forgiven under the PPP is subject to several additional reductions.

The amount of loan forgiveness will be reduced proportionately by an employer’s reduction in its number of full-time equivalent employees.[10] Loan forgiveness will also be reduced by the amount of any reduction in total salary or wages if such reduction in salaries/wages exceeds 25% of the total salary/wages for any employee earning $100,000 or less (annualized in 2019).[11] While the CARES Act established a grace period until June 30, 2020 for employers to restore full-time employment and salary levels to their previous levels, employers who do not restore employee and salary levels during the 8 weeks following disbursement of the loan proceeds will have a difficult time meeting the 75% threshold discussed above.   

Additionally, if a PPP loan recipient also received an EIDL emergency advance, the PPP forgiveness amount will be reduced by the amount of the advance on a dollar for dollar basis.[12] Finally, the CARES Act provides that the amount forgiven may not exceed the principal of the loan.[13] Note, though, that a Treasury rule has stated that the amount forgiven “can be up to the full principal amount of the loan and any accrued interest.”[14]

Please note that different rules may apply if you are self-employed, a sole-proprietor, or seasonal employer. For instance, a self-employed individual’s loan forgiveness is limited to a proportionate 8-week share of 2019 net profits, as reflected on the individual’s 2019 Form 1040 Schedule C.[15] Additionally, seasonal employers may calculate their employee reduction in part by relying upon the average number of full time equivalent employees per month employed between February 15, 2019, and ending June 30, 3019.[16]

Applying for Loan Forgiveness

Although the CARES Act is silent on exactly when a borrower may apply for forgiveness, it will surely be after the 8-week covered period elapses so that the proper documentation can be provided. To apply for loan forgiveness, the borrower must submit a request with the lender servicing the loan. As part of the request, the borrower must include documentation verifying the number of full-time equivalent employees and pay rates, along with documentation to support that payments were made on eligible expenses (payroll costs, mortgage interest, rent, and utilities). In addition, the borrower must certify that the submitted documents are true and that the forgiveness amount was used to keep employees and to make other eligible payments.[17] Once a completed application is received, the lender must make a forgiveness determination within 60 days.[18]

It is imperative that any recipient of PPP loan funds carefully track and document exactly how the proceeds are spent, as well as document employee headcounts and compensation levels. Although not specifically required by the Act or the guidance, in order to ensure that PPP funds are only used for eligible expenses, it is recommended that the funds be placed into a separate account.  Keeping other relevant documents, such as invoices, bills, payroll tax records, checks, and other payment records will help with achieving forgiveness of any PPP loan.  

Safe-Harbor Provision

One certification, among others, that must be made to obtain a PPP loan is that the applicant certify that the “[c]urrent economic uncertainty makes [the] loan request necessary to support the ongoing operations of the Applicant.”[19] Despite this requirement, some large, wealthy organizations received PPP loans, perhaps as a result of misunderstanding or misapplication of the required certification.

Accordingly, and to facilitate the prompt repayment of such PPP loan funds, Treasury recently issued an interim rule that provides a safe-harbor, whereby “[a]ny borrower that applied for a PPP loan prior to the issuance of this regulation and repays the loan in full by May [14], 2020 will be deemed by SBA to have made the required certification in good faith.”[20] Ideally, this safe-harbor will incentivize ineligible PPP loan recipients to return loan proceeds without penalty, while also helping to ensure that more PPP funds reach eligible recipients.

Tax Implications of Forgivable Loan

PPP loan recipients should be aware of two important tax implications of PPP loans: (1) the amount of any loan forgiveness is excluded from gross income; and (2) an employer cannot claim tax deductions for expenses that are otherwise normally fully deductible if the expenses were paid with PPP loan funds that are thereafter forgiven. 

As to the first prong, any amount of the loan that is forgiven is excluded from gross income, regardless of whether such income would typically be characterized as income from the discharge of indebtedness.[21]

Despite this exclusion from income, the tax treatment of forgiven PPP loans may not be as favorable as initially believed. In particular, IRS Notice 2020-32 clarifies that no otherwise allowable deduction can be made for the payment of an expense that results in the forgiveness of a PPP loan.[22] In other words, if you use PPP loan proceeds to pay for certain expenses that are normally deductible business expenses, but then said PPP loan is forgiven, you will be prohibited from claiming the deduction relative to those expenses because taking advantage of such a deduction would result in a double tax benefit. Thus, ordinary and necessary expenses paid or incurred in carrying on a trade or business such as rent, utilities, and payroll costs, cannot be deducted if paid with forgiven PPP loans.[23] This IRS Notice has received considerable criticism as being contrary to the intent of the Act and some legislators have vowed to pass further amendments on this issue. 

Seek Counsel

This publication is meant to serve as a summary of some key elements of PPP loan forgiveness. This publication does not constitute a complete list of all potential legal options your business or organization may have nor does it account for the additional regulatory guidance that will likely come down in the next few weeks. PPP loan recipients are urged to seek legal advice if they wish to take advantage of loan forgiveness. The attorneys at Wadleigh, Starr & Peters, PLLC will continue to monitor the situation and are here to assist you.


[1] See https://home.treasury.gov/system/files/136/PPP–IFRN%20FINAL.pdf.

[2] See https://home.treasury.gov/system/files/136/PPP–IFRN%20FINAL.pdf.

[3] See id.

[4] See id.

[5] See https://home.treasury.gov/system/files/136/Paycheck-Protection-Program-Frequently-Asked-Questions.pdf.

[6] See https://home.treasury.gov/system/files/136/Interim-Final-Rule-on-Disbursements.pdf

[7] Id.

[8] See https://home.treasury.gov/system/files/136/PPP–IFRN%20FINAL.pdf.

[9] Sec. 1106(b).

[10] Sec. 1106(d)(2).

[11] Sec. 1106(d)(3); https://home.treasury.gov/system/files/136/PPP–Fact-Sheet.pdf.

[12] Sec. 1110(e)(6).

[13] Sec. 1106(d)(1) of the CARES Act.

[14] See https://home.treasury.gov/system/files/136/PPP–IFRN%20FINAL.pdf.

[15] See https://home.treasury.gov/system/files/136/Interim-Final-Rule-Additional-Eligibility-Criteria-and-Requirements-for-Certain-Pledges-of-Loans.pdf.

[16] Sec. 1106(d)(2)(A)(ii)(II).

[17] See https://home.treasury.gov/system/files/136/PPP–Fact-Sheet.pdf.

[18] Id.

[19] See https://home.treasury.gov/system/files/136/PPP-Borrower-Application-Form-Fillable.pdf; see also https://home.treasury.gov/system/files/136/Paycheck-Protection-Program-Frequently-Asked-Questions.pdf.

[20] See https://home.treasury.gov/system/files/136/Interim-Final-Rule-on-Requirements-for-Promissory-Notes-Authorizations-Affiliation-and-Eligibility.pdf; see also https://home.treasury.gov/system/files/136/Paycheck-Protection-Program-Frequently-Asked-Questions.pdf (extending the safe harbor deadline from May 7, 2020, to May 14, 2020).

[21] Sec. 1106(i).

[22] Id.

[23] Id.